How Big is Your Client’s Tax Court Case, Really?

If you are a tax professional not admitted to Tax Court, the following scenario may sound familiar:

A client gives you a call. She is being audited.

The numbers aren’t a problem. All items claimed as income or expense have been documented. All revenue has been accurately reported and accounted for.

But there is an issue. The IRS Auditor/Examiner disagrees with how your client treated an item of income or expense.

“This is a hobby, not a business”

“This isn’t a reasonable and necessary business expense”

“The fraud penalty is appropriate here”

“Substance over form, dear tax pro.”

“The late filing was not due to reasonable cause or due to willful neglect.”

(And here’s one from the future) “That kind of income is not Qualified Business Income.”

So you work out the things that you agree with the auditor on and substantially (or insubstantially) reduce the proposed assessment.

Then you get the 30-day letter. Do you respond? (Am I the only one with the general impression that even if you appeal, it is a 50/50 shot that any Settlement Officer will ignore their mandate to be a fresh set of eyes and simply tow the party line?)

Whether you get somewhere with Appeals or don’t, a 90-day letter is eventually issued.

Now what? Is that the end of the ball game? Unlikely. At least I don’t think so. Maybe the IRS came out of the gate swinging, with a CP2000 claiming a deficiency for $150k and you got it knocked down to $55k. Pretty good, right? Maybe it’s time to convince the client to accept the results of the audit and move on to payment or settlement options, right?

Does it seem like a non-choice? You can’t file a tax court petition for your client. Maybe you can point your client to the Pro-Se “Petition Kit” and cross your fingers? But will IRS Counsel take such a petition seriously? You could point them to the Tax Court’s Rules of Practice and Procedure, and wish them luck with filing a valid Petition without using the form. How do you anticipate that panning out? And what is your role once one of those petitions are filed? You might consider “ghostwriting” a petition for them – though I would urge you against that. All of these are bad options, but they probably seem like better options to many of you than the obvious option I am going to propose next.

Maybe you should (or preferably your client) should call a Tax Lawyer.

I already know what you are going to say. “Even if my client has a 50/50 shot at winning this case in tax court, they could end up spending $25,000 in attorney fees!” Not much expected value with attorney’s fees that high!

But who told you that!?

I’m going to let you in on a not-so-secret secret. Attorneys are more receptive to legal arguments. And IRS Counsel…? They’re attorneys! Your average TCO/Examiner/Auditor and even most Settlement Officers are going to look at their internal positions and interpretations of the Code and Case Law to counter legal arguments you throw at them during an audit or non-docketed appeals. They probably won’t budge once they make up their minds. Even if there is a good chance they are wrong, it is likely that a good chance isn’t enough to sway them.

But, like I said, Attorneys are more receptive to legal arguments. They are also more receptive to settling a case on “legal hazards.” Hazards of litigation should be the same for a case whether or not it is docketed, but we all know the practical reality is different. Trying cases costs the government money. Losing the wrong case could cost the government a lot more. Bad case law is bad for the government.

So here’s an actual secret. Maybe? A normal tax court case should not cost $20-25k unless it is litigated.

As much as the procedures of any court can be daunting, and research of novel issues can be time-consuming, the overwhelming majority involve very basic arguments as to why your client’s position should prevail. 9/10 of these cases will settle before ever going to trial. In most cases, it isn’t a complicated conversation to have with IRS Counsel. They are going to hear the legal arguments of the petitioner, they are going to consider them, and they are going to give you credit for having an argument that might win.

How big is your client’s case? It depends how complicated the legal arguments are and what is at stake. Tax litigation is not “one-fee fits all.”

The bottom line is that in many situations, a lot more hours will be spent developing a case for audit or appeals than the time that will actually be spent filing a petition and negotiating a resolution with the IRS.

Are the arguments simple? Does the government have an actual interest in litigating the case? How much money is at stake? How big is your client’s tax case? Probably not as big as you think.

It’s not going to cost your client $25k every time they consider hiring a lawyer to represent them in tax court. So if you are saying that to your clients now, probably because you’ve heard some Tax Lawyer or USTCP say it before, please stop. Maybe that’s what they think is the appropriate range to set as the expectation. Very sincerely, I’m not judging them, or you.

But if that’s how they feel, or what they say and you think your client’s tax case “isn’t big enough” for the tax lawyer you know, then don’t call that tax lawyer. Call another one.